Get the latest updates as we post them — right on your browser

. Last Updated: 07/27/2016

Russia Waves Good-Bye to the Joint Venture

Six years ago, the first foreign businesses made a leap into the dark that was then still called the Soviet Union.

The Soviet government created for them a unique legal entity: the joint venture or sovmestnoe predpriyatiye in Russian, identified by the letters SP after their company name. These companies had a special status designed both to encourage and to control foreign investment in the controlled Soviet economy.

This month, in a small but significant turning point, joint ventures lost the last of these special legal attributes: the right to export items which they produce without paying customs duties.

Joint ventures had already seen a whole host of other advantages disappear over the last two years, such as two-year tax holidays and exemptions from the obligatory sale of hard-currency earnings for rubles.

One of the few benefits left to joint ventures was the right to export their own production freely, but the definition of what can be exported was restricted earlier this month, according to George Reese, managing partner of consultants Ernst & Young.

This has particularly hit the oil and gas companies, most of which hoped to pay for their investment with exports, Reese said.

Joint ventures are now almost legally identical to Russian companies, the only difference being that they have a foreign shareholder. Rather than being handled by special foreign trade bureaucrats, joint ventures must now join the queues with other Russian companies for registration and permits.

But the end of the special status of joint ventures is not all bad news. Paul Melling, manager of the Moscow office of law firm Baker & McKenzie, said that because joint ventures operated outside normal Russian company law, it was often not clear whether any particular set of laws applied to them. Joint ventures were often artificial creations designed simply to take advantage of loopholes. In many joint ventures, the main contribution made by the Russian side was providing real estate, as it is still very difficult for foreign firms to buy or acquire long-term leases to premises.

But Reese said that in many cases changes in regulations on real estate, which are often retroactive, can put such a venture at risk by turning proper ownership agreements into worthless pieces of paper.

Many joint ventures have fallen apart over a "conflict of expectations", Melling said. One of the reasons Russians were eager to join with foreign companies was their hope of gaining hard currency. But foreign partners, often insisted on getting their share of the hard-currency income first, he said.

In other cases, Melling said, Russian general directors of the ventures were apt to run the business as they had run Soviet state enterprises - with little input from the shareholders.

Foreign partners, too, have done their share, Melling said. Many of the early generation of foreign businessmen were working on their own, using a small or sometimes fictitious company. Looking for a quick buck, some would promise huge investments but run off with the profits before investing anything.

Russian partners are only just finding out that they can easily check the credentials of a foreign company, and new laws require firms to provide such information here and include deadlines for when promised investments should be made, Melling said.

All this has not discouraged joint ventures completely, but foreign partners, especially large multinationals, often prefer to keep a larger share of control in their investments, Melling said.